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Lump sums - the good, the bad & the ugly

Lump sums - the good, the bad & the ugly. Richard Cumpston Cumpston Sarjeant Pty Ltd. Topics. how lump sums currently operate in Australia how lump sums are spent lump sum pitfalls the structured settlement alternative. Lumps sums currently. Full common law

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Lump sums - the good, the bad & the ugly

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  1. Lump sums - the good, the bad & the ugly Richard Cumpston Cumpston Sarjeant Pty Ltd

  2. Topics • how lump sums currently operate in Australia • how lump sums are spent • lump sum pitfalls • the structured settlement alternative Cumpston Sarjeant Pty Ltd

  3. Lumps sums currently • Full common law • Common law with statutory restrictions • Partial common law • No common law entitlements • Commutations of statutory incomes • Impairment lump sums Cumpston Sarjeant Pty Ltd

  4. Full common law • A lump sum intended to restore the plaintiff to their former position • Subject only to court decisions • For example, the 3% discount rate of the High Court in Todorovic v Waller 1981 • Only applies in the ACT, for work and road injuries? Cumpston Sarjeant Pty Ltd

  5. Common law with statutory restrictions • Statutory discount rates of 5%, 6% or 7% • Thresholds for non-economic loss • Caps on non-economic loss awards • Caps on economic loss awards • Restrictions on legal costs Cumpston Sarjeant Pty Ltd

  6. Partial common law • For work and road accidents in Victoria, severely injured persons can receive common law awards for earnings losses, but expenses of care continue to be paid by TAC or WorkCover • ComCare also pays continuing expenses of care Cumpston Sarjeant Pty Ltd

  7. No common law • South Australian work accidents • NT work and road accidents Cumpston Sarjeant Pty Ltd

  8. Commutations & redemptions • Some severely injured Victorian workers can commute weekly payments for 25% of their actuarial value • Some SA workers have been able to commute for limited periods, at fair values, but at the expense of the Commonwealth • NSW injured workers appear to get less than fair value Cumpston Sarjeant Pty Ltd

  9. Impairment lump sums • Statutory entitlements, regardless of fault • Originally based on “meat charts” • Now largely based on medical impairment assessments • Sometimes severely biased against those less than 100% impaired Cumpston Sarjeant Pty Ltd

  10. Where structures possible • Annuity will be tax exempt if purchased using money paid as personal injury compensation, where that money would have been tax-free if paid as a lump sum (excluding compensation for workers compensation and death) • Bill ss.54-10 (1) (c ) & (d), & 54.20 Cumpston Sarjeant Pty Ltd

  11. Lump sums paid pa (Walsh & Davies 6/11/97) Cumpston Sarjeant Pty Ltd

  12. How lump sums are spent • Colin Bass, study for NSW Law Foundation, 1983 • Marcia Neave & Louise Howell, Adelaide Law Review Resarch Paper No 5, 1992 • UK Law Commission “Personal injury compensation “ How much is enough”, 1994 Cumpston Sarjeant Pty Ltd

  13. Work redemption $20,000-$30,000 Work redemption $40,000- Motor vehicle $20,000-$35,000 Motor vehicle $100,000 Work common law $40,000- 53% 43% 65% 31% 36% Colin Bass NSW 1983 – sums exhausted within 7 years Cumpston Sarjeant Pty Ltd

  14. In families below poverty line Reliant on social security for reasons related to the accident Financially insecure because of accident Compensation insufficient to cover accident-related expenses 16% 19% 22% 53% Neave & Howell – 227 SA MV awards of $25,000+ in 1980 Cumpston Sarjeant Pty Ltd

  15. Wrong predictions Lawyer Inflation Need to settle early What happened in court Contributory negligence Investment mistake 52% 34% 38% 13% 3% 6% 7% Main reasons for inadequate compensation (SA) Cumpston Sarjeant Pty Ltd

  16. All of it Over half About half Less than half None of it 22% 22% 14% 33% 9% % spent 3-4 years after receiving UK award of 20,000+ pounds Cumpston Sarjeant Pty Ltd

  17. None Building society Bank account Company shares/securities Unit/investment trusts Government stocks Property Other 10% 51% 26% 21% 30% 8% 7% 8% Investments by UK recipients of 20,000+ pounds Cumpston Sarjeant Pty Ltd

  18. Bad investment advice (UK) • “The solicitor advised us to go to a financial adviser. She put the money left into that bank which crashed which lost all the money we had in that” • “the bank gave us duff information …went to a broker who was a bigger dead loss” • “everyone wants to sell you their own product” Cumpston Sarjeant Pty Ltd

  19. Bad investments • “I was advised to invest in stocks and shares, and lost a lot of money” • “I’m disappointed because of the drop in the interest rate and the bank charges” • “The return from my investments are only just keeping up with inflation” Cumpston Sarjeant Pty Ltd

  20. Generosity to friends & relatives • “Almost half of his 300,000 pounds disappeared in the first 18 months, much of it spent on contributing towards the purchase of properties for his children and mother, and taking his family on exiting holidays … he would have preferred periodic payments to the lump sum” Cumpston Sarjeant Pty Ltd

  21. Theft • “Former Geelong mayor pleaded guilty to the theft of $5 million from Tomislav Papic … Mr Papic won a record $6m settlement from a Geelong hospital after a medical mistake left him in a wheelchair” The Age 10/3/01 Cumpston Sarjeant Pty Ltd

  22. Lump sum pitfalls • Bad predictions • Bad legal advice • Bad investment advice • Bad investments • Generosity to friends & relatives • Theft Cumpston Sarjeant Pty Ltd

  23. Cases for structured settlements "Structured settlements will be most appropriate for those with lifelongmedical treatment and care needs. Structured settlements remove theworry involved in having to invest a large lump sum so as to draw anincome that can cover expenses while making sure that the money won't runout.“ (MAA 1998) Cumpston Sarjeant Pty Ltd

  24. Structured settlements less likely if • Financially competent to self-invest • Financially secure • High statutory discount rate • Low current interest rates • Inexperienced annuity market • Distrust of insurance companies Cumpston Sarjeant Pty Ltd

  25. Impact of discount rate • 3% discount rate • Top down approach and bottom up approach yield similar results (annuity cost and lump sum calculation roughly equal) • 5% discount rate • Top down approach will be preferred by defendants (lump sum calculation likely to be less than annuity cost) Cumpston Sarjeant Pty Ltd

  26. 3% discount rate • Lump sum calculated to provide $5,000 pw for life expectancy of 44 years = $6.4m • With mixed investments and drawings of $5,000 pw fund will run out in about 44 years • Annuity providing $5,000 pw for life costs about $6m Cumpston Sarjeant Pty Ltd

  27. Fund runoff with 3% discount Cumpston Sarjeant Pty Ltd

  28. 5% discount rate • Lump sum calculated to provide $5,000 pw for 44 years = $4.7m • With mixed investments and drawings of $5,000 pw, fund runs out after 28 years Cumpston Sarjeant Pty Ltd

  29. Fund runoff with 5% discount Cumpston Sarjeant Pty Ltd

  30. 5% discount rate • Lump sum of $4.7m allows drawings of $3,884 pw for life expectancy of 44 years • Annuity costing $4.7m provides $3,949 pw for life • avoids the risks of living too long • avoids the risks of high inflation • avoids the risks of poor investments Cumpston Sarjeant Pty Ltd

  31. Size of UK structures • "In the UK, 100,000 pounds is suggested as a minimum total value of acase, though typical cases involve damages of 600,000 pounds, of whichabout 350,000 pounds is used to purchase annuities.“ MAA 1998 p11 Cumpston Sarjeant Pty Ltd

  32. Size of Australian structures • Legislative requirement for minimum monthly level of support (Bill s.54-40) • Must be a lifetime annuity • Must start at level of current Aged Pension • Must be indexed to the CPI • Minimum case size depends on age • Expect cases $1m+ Cumpston Sarjeant Pty Ltd

  33. Road Medical Work Riding Skiing Criminal Unknown Total 23 9 3 1 1 1 5 43 UK types of cases Cumpston Sarjeant Pty Ltd

  34. Brain Quadriplegia Paraplegia Cerebral palsy Death Arm Unknown Total 22 6 3 3 2 1 6 43 UK types of disabilities Cumpston Sarjeant Pty Ltd

  35. Estimates for Australia from UK • Based on UK take-up rates and 1997 Walsh/Davies lump sum figures • 30 to 60 structured settlements pa • Average award $1.75m • Average life expectancy 33 years JR Cumpston, “Potential costs and savings from structured settlements”, 4/2/00 Cumpston Sarjeant Pty Ltd

  36. Conclusions • Will be possible in most large personal injury cases where common law lump sums are now paid • Will address some of the pitfalls of lump sums • Likely in motor vehicle, medical indemnity and public liability cases involving brain and spinal injuries • Attractiveness will vary depending on personal and economic circumstances Cumpston Sarjeant Pty Ltd

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